Earnings Call: Q3 2014

Oct 28, 2014

Summary

Q3 revenue reached a record $4.9B and net income rose 20% YoY to $371M, supported by higher truck deliveries and record Parts and Financial Services results. Q4 deliveries are expected to rise 5%-7% sequentially; 2015 market outlooks remain broad.

Good morning, and welcome to Paccar's third quarter 2014 earnings conference call. All lines will be in a listen-only mode until the question and answer session. Today's call is being recorded. If anyone has an objection, they should disconnect at this time. I would now like to introduce Mr. Ken Hastings, Paccar's Director of Investor Relations. Mr. Hastings, please go ahead. Good morning. We would like to welcome those listening by phone and those on the webcast. My name is Ken Hastings, Paccar's Director of Investor Relations, and joining me this morning are Ron Armstrong, Chief Executive Officer, Bob Christensen, President and Chief Financial Officer, and Michael Barkley, Vice President Controller. As with prior conference calls, if there are members of the media participating, we ask that they participate in a listen-only mode. Certain information presented today will be forward-looking and involve risks and uncertainties, including general economic and competitive conditions that may affect expected results. I would now like to introduce Ron Armstrong. Good morning. Paccar reported record quarterly revenues and increased net income for the third quarter of 2014. Paccar's third quarter sales and financial services revenues were $4.9 billion, and net income was $371 million, an after-tax return on revenues of 7.5%. Revenues were up 15%, and net income increased 20% compared to the results generated in the third quarter last year. These excellent results reflect increased truck deliveries in North America and records for quarterly sales at Paccar Parts and quarterly pre-tax profits at Paccar Financial Services. I'm very proud of our 23,400 employees who have delivered industry-leading products and services to our customers worldwide. During the third quarter, Paccar repurchased 581,000 shares of stock for $34.1 million. Under the current board authorization of $300 million, Paccar has repurchased 5.6 million shares for $226 million. Paccar delivered 37,400 trucks during the quarter, an 11% increase versus the second quarter of this year and 6% higher than the third quarter last year. This growth reflects increased truck deliveries in the U.S. and Canada due to many customers expanding their fleets and the ongoing replacement of older trucks. Industry orders for Class 8 trucks in the U.S. and Canada for the first nine months of this year were over 220,000 trucks, a 38% increase over the comparable period last year. Our customers are benefiting from positive economic trends that are generating record freight tonnage and higher fleet utilization. U.S. auto sales are projected to be over 16 million vehicles, and housing starts over 1 million units this year. Other good economic news is that the U.S. employment gains this year have averaged 227,000 jobs per month, and lower fuel prices are benefiting our customers' operating costs. In Europe, it is encouraging that the U.K. economy, which is Paccar's largest market in the region, is expected to grow by about 3% this year. The Eurozone economies are projected to grow more modestly at around 1%. Year to date through September, freight in Germany, as measured by the Maut toll system, was 3% higher than the same period last year. During the third quarter, market registrations of Euro 6 vehicles continued to increase and were estimated to be about 85%-90% of the industry. As a result, DAF's market share increased to over 15% for the third quarter. Looking to the fourth quarter, we expect to increase global truck deliveries by 5%-7% compared to the third quarter, reflecting an increased number of workdays in Europe and the continued strength of the North American Class 8 market. Fourth quarter truck gross margins should be slightly higher than the third quarter, reflecting the benefits of higher production levels. U.S. and Canadian Class 8 industry retail sales are estimated to be in a range of 245,000 to 255,000 trucks this year, the highest level since 2006. The 2015 estimate for the U.S. and Canada Class 8 market is 240,000 to 270,000 trucks. For 2014, Europe's greater than 16-ton market is projected to be in a range of 210,000 to 220,000 trucks, with our 2015 estimate at 200,000 to 240,000 trucks. Production of DAF trucks in Brazil is steady, with build rates expected to increase gradually in 2015. Paccar's parts business generated record quarterly revenues of $784 million. Paccar Parts quarterly pre-tax income was $128 million, an increase of 20% compared to a year ago. The strong results were driven by improved fleet utilization and the many innovative products and services offered by Paccar Parts. Paccar Financial Services revenues were $306 million in the quarter. Paccar Financial's pre-tax income was a quarterly record $97 million compared to $88 million earned last year. The improved results benefited from growth in asset balances and strong portfolio performance. Paccar's strong balance sheet and positive cash flow have enabled the company to invest over $2 billion in new products and facilities in the last three years. In the third quarter, DAF introduced many exciting new products at the Hannover Truck Show, including the new DAF CF and XF Low Deck tractors and DAF CF and XF trucks with Predictive Cruise Control. Kenworth and Peterbilt launched innovative additions to their product lineups, including natural gas versions of the Kenworth T680 and T880, and the Peterbilt models 579 and 567. Capital expenditures for 2015 are projected to be $325 million to $375 million, and research and development expenses are estimated to be $200 million to $250 million. The investments will enhance our global product ranges, aftermarket support, and manufacturing facilities. Paccar continues to enhance its leadership position in the global truck market by developing the highest quality products and services in the industry, investing in new geographic regions, and providing excellent returns to our shareholders. I'd be pleased to answer your questions. If you would like to ask an audio question, simply press star and then the number one. Again, to ask a question at this time, please press star, then the number one on your telephone keypad. We will pause for just a moment to compile the Q&A roster. The first question comes from the line of Steven Fisher from UBS. Hi, good morning. Good morning. You are just talking about some of the CapEx trends there. I am wondering, where are we in the investment cycle for parts distribution centers? Then, how should we think about how much it would cost to expand into some of the newer regions that you have discussed? I am just kind of wondering, against that $2 billion you spent the last few years, are there any particularly big CapEx programs we should be expecting in the next couple? I think CapEx next year, if you look back at our average spending levels, we've been in a $300 million-$400 million level on average. I think next year will be a typical year with continued investment in parts distribution centers. We're going to build a new parts distribution center in Renton, here in the Seattle area. We'll continue to invest in new products and continue to invest in improving the efficiency of our manufacturing facilities around the world. One of the things that we'll be doing next year is investing in a new paint facility at our Westerlo plant in Belgium. Okay. That's helpful. Then in terms of fleet expansion, your customers, you seem to be calling out a little bit more clearly this quarter. I guess, what have you heard from end customers that may be different at this point? I think the fleets have taken some actions to attract more drivers through increasing pay rates and other activities. I think they're feeling better about being able to keep their trucks utilized. Of course, freight tonnage is at an all-time high. So the demand is there, and we're starting to see a little bit more willingness to make that fleet expansion. Okay, great. Thank you. Thank you. The next question comes from the line of Nicole DeBlase with Morgan Stanley. Yeah, thanks. Good morning, guys. Good morning. My first question is around build rates. You've been stepping up your build rates at your North American facilities. I'm just curious, today, where are we from a plant capacity utilization perspective? How does that compare to prior peak levels? Is there scope to take up your build rates further? We're in good shape from a capacity standpoint. We have a fair amount of capacity remaining in several of our plants in North America. We don't see capacity being a limiting factor for our operations in the near term. In Europe, obviously, I think we're in good shape capacity-wise as well. We feel good about our capacity really in all of our markets around the world. Okay, got it. That's helpful. Thanks. Then maybe the second one around pricing. How was truck pricing for you guys during the quarter, and what's your view on pricing as we move into next year? Because as build rates increase, there could be the scope for pricing to improve in the industry. I'm just curious on your thoughts around that. Pricing has been pretty steady for us in the last 12 months. We talked about with Euro 6 coming on board the early part of 2014. The market still remains at a relatively low level compared to some of the peak levels. Pricing continues to be steady. If there's some opportunity for market improvement as we go forward, there may be some opportunity for price realization. But I'd say steady is how we're thinking about pricing as we go forward. Okay, thanks. I'll pass it on. Next question comes from the line of Steve Volkmann with Jefferies. Hello. Hi, Steve. Good morning out there. Good morning. Good morning. How are you? I'm well, thank you for asking. I hope everybody's good there. Great. Curious about maybe sort of another way to think about this pricing thing. How far out are your delivery slots in North America these days, roughly? We're pretty full for the rest of this year, and then starting to add to our backlog for next year. Okay, did you have sort of a normal price increase associated with 2015? I assume you do that every year. Yeah, there's typical adjustments effective with the model year change. When that happens next year, there'll probably be a list price adjustment that goes with that. Okay, fair enough. Are you seeing anything on the supplier side with respect to costs or tighter schedules as things ramp up? Are they able to keep up with you, and is that having any impact on your cost? The suppliers did a great job of supporting our build rate ramp-up during the third quarter. Everything is running very smoothly at this point, and we see no particular challenges with them being able to continue to support that. As commodity prices are relatively stable, that's obviously allowing us a stable cost situation. Great. Thank you very much. I'll pass it on. Thank you. The next question comes from the line of Jamie Cook with Credit Suisse. Morning, Jamie. A couple questions. As we think about 2014, you guys have had nice margin improvement on the operating margin line based on how it will trend for the year. The gross margins look like they will probably be more flattish for the year. As we look ahead, do you see further opportunities on the SG&A and R&D side to get operating margin leverage? Or going forward, does operating margin leverage really need to come more from the gross profit side or gross margin side? Can you talk about your comfort level there? My other question is just on the markets. Can you talk about the vocational side of the markets, how much that was up year-over-year and sequentially? Thanks. Well, on the cost side, SG&A is, I think we will continue to see comparable levels next year to what we have seen this year. I do not see that if there is higher revenues, that provides some leverage, but the spending levels will remain relatively constant. R&D, we talked about for next year, our range being in the $200 million to $250 million range as we continue to invest in new products, engine efficiency, and other product enhancements. Again, that spending level will be in that range somewhere. Again, the leverage will depend on whether we have increased revenues or not that go with that. From a factory standpoint, we will see to the extent that build rates increase, we will see some operating leverage as a result of that. I would say pretty typical operating leverage as we have seen over the years. Let's see, what was the- The second question. So you feel comfortable you could get gross margin improvement next year, is the way- I think it really depends on the volumes that we see. I think we see pricing as being pretty steady, and there is opportunity to get additional operating leverage with additional volume, I think. Okay. Sorry, the last question was just color on the vocational markets, what you're seeing sort of sequentially and year-over-year. Thanks. Sure. Paccar does a great job with the vocational business. The vocational market in the North American continent is on order of 25%-30% of the total market, probably up 5%-10% year-on-year. Our market share is in the 45%-50% range. So, it's a good, solid, steady market for Paccar. In Europe, the guys are working really hard to capture a larger share of that rigid or vocational business in Europe, and certainly, it's an opportunity for us there. Alrighty. Thanks. I'll get back in queue. Question comes from the line of Andy Casey with Wells Fargo. Morning, Andy. Hey, good morning, Ron. How you doing? Great. Good. If I missed it, I apologize. Could you highlight what the truck shipments were in the quarter and then maybe by two of the regions? Total deliveries were 37,400. 300. Yes. I do not know if we will get the information by region. In fact, I have it here. So 37,400. In the U.S. and Canada, 23,500. Europe, 9,200. In the rest, Mexico, South America, Australia, and other. Okay, great. On the 2015 industry sales outlook, I know it is the initial view, but between the two primary regions, U.S., Canada, and then Europe, which region do you think has the highest likelihood for upside risk at this point? Upside risk. I guess we feel good about the ranges that we have provided, Andy. If U.S. and Canada continue at third and fourth quarter pace, it would be probably towards the higher end of that range. In Europe, a lot depends on how things develop in the economy over the coming months. I do not have a comment which was, say, more risky than the other. I think we feel good about our ranges at this point. Okay, thanks. One last one, and it's along the same lines. If you look at the midpoint, it's kind of low single-digit growth in both primary regions. If you assume no dramatic market share shift anywhere for you folks, does the modest sales growth suggest modest production growth? The reason I'm asking is you've increased production pretty much sequentially for most of the year, so first part should have pretty good growth. Yeah, I think we're at a production level to support the current market conditions in U.S. and Canada. So, assuming the market is within our range, I think we'll see fairly steady production levels through next year. In Europe, orders have been relatively steady, and we've been producing at a pretty steady pace there. We'll see how things develop as we enter 2015. But our perspective is that the markets will be similar to up, depending on how the economic conditions develop. Okay. Thank you very much. Thank you. The next question comes from Andrew Kaplowitz with Barclays. Morning, Andy. Morning. Nice quarter. Thank you. Ron, maybe we could talk a little bit more about the European truck market. If you look at the data available for the important countries for you guys, like the U.K. that you mentioned and Germany, the data looks still somewhat weak, but maybe stable at a low level is more accurate, and September did appear a bit better than July from the data that I see. Maybe you could talk about your order boards and inventory levels in the major European markets for you guys. Orders are, like I say, they've been pretty steady the last couple of quarters and supporting our current build rates, and I don't see anything that's going to cause that to change in the short term. What was the rest of your question, Andy? Inventory- Yeah 0.5. Yeah, inventories both for our truck operations and our dealers are in great shape. Dealers have reasonable levels that are consistent with the current market conditions. I'd say that's true not only in Europe, but also in North America. If anything, dealers could probably use maybe a little bit more inventory in some of our North American activities. Okay. That's helpful, Ron. You talked about your parts related growth for this year to be in the 5%-8% range, and it continues to pretty consistently be around 10%. Besides more difficult comparisons, as your fleet service continues to get larger, why wouldn't parts continue to grow, at least on the higher end of your previous range? Yeah, I think as of now, we're to the point in the year we're 10% up year-on-year. I think for the full year, we'll be at the higher end of that range for the full year. As we look into 2015, Ron, again, you're going to put in new distribution, and it still seems like it's pretty consistent growth there, especially with a bigger fleet. Can we expect still at least mid-single digit growth? I would expect. Paccar, our parts team, does a great job of putting together innovative programs and services to support our dealers and customers around the world. So, I would think we would see some continued growth in the parts business as we progress into 2015. All right, I tried. Thanks, Ron. Sure. The next question comes from the line of Ann Duignan with J.P. Morgan. Morning, Ann. Hi, guys. How are you? Great. Good. Maybe if you take a step back, you noted that the vocational market is up about 5% year to date. Could you just break that down and give us some more color in terms of construction end markets versus oil and gas? What you're seeing in other applications like long haul versus day cab, short haul, just a little bit more color on where you're seeing the strength in demand. I would say that in the oil and gas area, activity is steady probably, is the best way to say that year on year. Probably have a little bit more growth in residential and commercial construction applications. In the current environment, we would think that that would be the trend moving forward as well, that construction activity would continue to lead the vocational market until oil and gas pricing really recovers from its current level. Okay. Perhaps, just the same question around fleet expansion. What kind of fleets are expanding? Is there any commonality either geographically or tied to oil and gas or not to- No, Ann, I would- rail capacity or? I'd say the economy is in the midst of a long, slow economic recovery, and it's all of the segments of the Class 8 business, long haul, short haul, day cab, sleepers, they're all responding within the same solid range of growth. Okay. So no one end market or application specific to expansion of fleet? Which is great for Paccar because we've got a very diverse product lineup. We're strong in all of those segments. Indeed. Then just finally on Brazil, you normally tell us how many trucks per day you're building. Where are we today? Where are we going? The market doesn't look great down there. So maybe talk about, are you going to continue to proceed ramping up, or would you consider curtailing production in the region? Oh, no. It's early days for us, Ann, and our build rates are steady, and we anticipate being able to gradually ramp up build rates as we start into 2015. Our dealers get more of their final facilities in place and operational, and we get contact with more and more customers. We have lots of demo trucks that are out with customers that they're testing, and we're getting traction, really as we continue to go week by week, month by month. So the team's doing a great job, and we've got a great long-term opportunity in Brazil. So the short-term situation in Brazil doesn't really impact us. Okay. I think you were at about three trucks per day at the end of last quarter. Where are you right now? Yeah, we're in a two to three truck range. Okay. Yeah. Okay, I'll leave it there. Thanks, guys. Thanks for the color. Thank you. Yeah. The next question comes from the line of Jerry Revich with Goldman Sachs. Hi, good morning. Morning. I'm wondering if you could talk about how the warranty performance is tracking on the new products in Europe. I think the industry was just working through some electronics issues on engines in the U.S. Can you talk about how the quality performance has trended since the last time you spoke on the call? Yeah, products are great. The Euro 6 products are being very well received by our customers. Obviously, we continue to increase the penetration of MX engines in North America, 35%, 40%. I think we have 65,000 engines in the field these days. The feedback on the engines, all of our truck models around the world is excellent, and warranty performance is just normal. Products are doing great. I know your accounting's deliberately conservative on the warranty side. Can you talk about over what time period you would expect the accrual rates to come down to match the quality performance? At least as of last quarter, it looked like you were running 80 basis points plus above normal accrual rates following the new introductions. Yeah, I think warranty, as I said, it is very normal. There is nothing unusual about our warranty rates, so I think we will see steady warranty as we go. I mean Steady improvement. Yeah. Okay. In Europe, can you just calibrate us since this was just a transition year? How much this year are your retail sales higher than your production rates on the numbers you shared with us year to date? How much higher would the retail sales for your dealers have been? One more time, Jerry. Sure. So, retail sales for your dealers, I'm assuming, were higher than your production this year in Europe, given the transition to Euro 6. Can you just talk about how significant that gap was for your dealers? How much did they bring down inventories post the Euro 6 transition? No, I think retail sales were pretty consistent with our production levels. Probably maybe 1,000 trucks or so from the beginning of the year dealer inventory down to where we're at today, but it's nothing of significance. Okay. Lastly, you spoke about the CapEx and SG&A outlook. I'm wondering if you could just touch on R&D heading into next year. You're coming off of a couple of really significant new product cycles. Is there an opportunity for R&D to move lower in 2015, maybe 2016? No, I think as we put our range for next year, we think it'll be $200 million to $250 million, somewhere very comparable to what we saw this year as we continue to invest in our new product lineups and engine efficiency, facility enhancements, new systems to support continuing to improve our business efficiency. So I think R&D will be in that comparable level as we look at 2015. Okay. Thank you. Thank you. Question comes from Joel Tiss of Bank of Montreal. Good morning, Joel. Hey, guys. How's it going? Good. I think a lot of the operating stuff has been asked already, but I just wanted to ask a little bit about sort of the philosophy of your cash pile and the buildup. You got a little less than $3 billion right now, and between 2015 and 2016, you could easily generate another $2.5 billion of free cash flow. I just wondered if sort of the number and the size of the projects that you already have on your plate, plus your special dividend is enough to deal with that, or is there any reason to do some new thinking about where you are and where we are in this cycle? Well, as we're talking about capital expenditures for next year in the $325 million to $375 million range. We've got a $0.22 per quarter regular dividend, and we'll take a look at what the year-end might bring with respect to potential special dividend payments. The board will evaluate that and make a decision. We continue to. It's a cyclical business. Having a strong cash position is healthy for our company and our industry. We'll continue to look at alternative uses. Obviously, having a strong cash position and strong cash flow gives us a lot of flexibility to take advantage of situations that might arise. We periodically, from time to time, we'll go in the open market and repurchase shares. So that's always an option for us. So that'll be our plan as we continue forward. All right. Thank you. Thank you. The next question comes from Patrick Nolan of Deutsche Bank. Good morning, everyone. Good morning, Patrick. Most of my questions have been answered, but I want to follow back up on the earlier pricing discussion to see if you expand on particularly what you are seeing in pricing in Europe. Have we seen prices move up sequentially? Are you capturing more of the Euro 6 cost than you were earlier this year? No, I think pricing is pretty constant. We have a great product lineup. We have a broad Euro 6 product offering. The customers are very appreciative of the great products. Pricing has been, I would say, fairly constant as we have moved throughout this year for our Euro 6 products. Your statement about pricing next year, relatively constant as well? That applies to Europe as well? I think it will depend a lot on market demand and what the market size potential may be. At this point, I do not see any significant ups or downs in price expectations for 2015. Thanks. I just had one follow-up on the Q4 shipments. I apologize if I missed it. Can you just discuss how you see the shipments materializing for each region sequentially going into Q4? We talked about 5%-7% increase in our fourth quarter deliveries, with the majority of that coming from just increased workdays in Europe. Our European business has their traditional summer shutdown period during the third quarter. That gives us more workdays in the fourth quarter, and then we continue to see the benefits of the strong North American market. Thanks very much. Thank you. The next question comes from the line of David Leiker with Robert W. Baird. Good morning. Good morning, David. I wanted to try and dig through two items here. First, on Brazil, where are you on coming up the profit curve and break even in the region? That's a long-term proposition for us, where we do expect to ramp up our build rate in 2015. It's held steady. It's a challenging market, but the opportunity for DAF to continue to gain traction and build its place in the market is great. We look for continued improvement in 2015 and beyond. We'll get to that break-even point in the near term. Is there anything as you ramp those that the drag on the numbers might become larger before it gets better, or are we over the hump on that? No, I don't think so. Okay, great. Just a little bit more color, if we could, on capacity utilization. Where are you in terms of shifts that you're running in your plants and build rates and things like that? Anything you can share? Yeah. We're producing at record build rates in our Chillicothe and Denton factories. We still have lots of opportunity to build more trucks in our Renton factory, in Santa Teresa, in Canada. Our Mexico factory obviously has some additional capacity. In Europe, we're in great shape capacity-wise. So, good shape really in all of our geographic areas. Are you running overtime anywhere? No, no scheduled overtime. So, yeah, we're in good shape. All the capacity investments that we've made over the last five years have really positioned our facilities to be in great shape to support current market conditions as well as the reasonable growth prospects that may come. Okay, great. Thank you very much. Thank you. The next question comes from the line of Rob Wertheimer with Vertical Research. Hi, good morning. Good morning, Rob. So one quick one on Europe. Just trying to sort through the pre-buy, and I would've thought that you would've had a, I don't know, a deeper overhang, just given the geography of where you sell, and therefore your 1Q might've been worse, and it would've come up 2Q and 3Q, despite 3Q, maybe some production shutdowns in August and all that stuff. I'm just curious if you see Europe trending a little bit worse, because that overhang was there in 1Q and it hasn't gotten better, or if you see it steady. Maybe I'm misunderstanding how the overhang works. I guess I'm not clear on what you mean by the overhang. Sure. So, yeah. So 9,300 deliveries in 1Q, 9,200 in 3Q, and I would've thought that that 1Q would've been the most depressed, just given the pre-buy before that. Yeah. I think as we look at build rates have been reasonably steady. We took the build rates up in the third quarter and fourth quarter of 2013 to support the demand for the Euro V pre-buy. As we reduced that back down at the beginning of 2014, that build rate has been relatively steady at that level through the course of the year. Okay. That answers it. Yeah. One other question, I am not sure you will be able to address it, but I am just curious, given the strong success of your engine, the 13-liter in North America, did it come with any, I do not know, launch or it has been launched a while back now, I guess, but any initial hesitation from customers that would have caused you to have a pricing strategy that was less aggressive and as it proves out to be seemingly really high quality and working well, is there an opportunity to move the margin up on it? No, I think we had a well-thought-out pricing strategy with our engine when we launched it 4 years ago in 2010. We have stayed pretty consistent with our approach and think the engine obviously provides great value for our customers. It provides a great option for them. It is lightweight, fuel efficient, and reliable and durable. So great engine. Like I said, 65,000 engines in the field currently. I think that is, again, a pretty stable outlook on sort of what we see as pricing and value for our customers. Thank you. Thank you. Question comes from the line of David Raso with ISI. Good morning. Thinking of the build schedule for Europe, I know with the days it is not the cleanest analysis, but I am just trying to think about the builds for fourth quarter versus third quarter. It would appear you will be over roughly 10,000 units. Is that the right way to think about the sequential? Yeah. No, that is fair. With that, when I think of the first half of 2015, and I guess really, if you're thinking of your build schedule being steady, is there any reason to think from what you see in your order book right now that we can't take that fourth quarter build schedule and think of it as at a minimum sequentially flat? Because obviously that puts the first couple quarters of next year with pretty healthy year-over-year growth in Europe. Yeah. Our current thoughts are that the market will be comparable to this year and that we hope to improve our share of that market as we look to 2015. I think build rates will be, we'll enter next year at rates comparable to where we're at currently. That's what I was getting to, with your industry outlook is midpoint, I know it's a wide range, but up to 2.3%. Yeah. But just taking your prior answer, again, if you run that build schedule from fourth quarter out, you're up a lot more than that. Should we take that to mean some implicit thought about market share or again, it's a wide range, it's an early look? Yeah. When I say build schedule, I am thinking about the daily build rate. Again, our daily build rate has been pretty steady throughout 2014. What has been a difference is the number of work days in the fourth quarter relative to the third quarter. Okay. Last question. Gross margins a little stronger than you had forecasted at the end of last quarter. What would be driving that in particular? Was there any change on the build schedules versus what you thought with the particularly good mix? This does not sound like pricing is necessarily giving it to you. Is it cost? Just trying to understand where that gross margin upside came from and how to think about that moving forward. Yeah, primarily it was the benefits of operating leverage. We are 11% up in terms of delivered volumes during the quarter, so really it was the benefits of operating leverage. I guess more specifically, if the North American production upside Europe builds were generally as you thought? Yes. Europe was, and it was really the ability of the suppliers and our facilities to deliver the ramp-up plans very efficiently and very effectively. Okay. I appreciate it. Thank you. Sure. Thank you. Question comes from Scott Group of Wolfe Research. Morning. Hey, thanks. Morning to you guys. Wanted to ask about on the engine side, as you start booking orders for next year, are you seeing any further, maybe material pickup in engine share on your side? Do you think that can get to kind of the 50% penetration number next year? How should that impact the gross margin? Well, I think we've continued to see the increased penetration of our engines over time. In the third quarter, we were in the 35%-40% range, so I think they'll continue to see a steady progression, as time goes on. 50% at some point in the near term is certainly achievable. As we increase utilization of our factory, there's some operating leverage benefits that come with that. How long after you sell a truck with a Paccar engine does the aftermarket opportunity on that come through? Well, it starts when the engine gets put in service, but that ramps up over time. As we increase the number of engines in the field, that aftermarket benefit really starts to kick in after two, three, four years. The parts stream has a little bit longer tail. The service opportunities, because it is a captive engine and will be serviced at Kenworth and Peterbilt dealer, provides a good near-term opportunity for our Paccar Parts organization to sell parts that are also installed in different service intervals. The service captivity is an important piece of the engine strategy. Okay. Last one for you, Bob. Not a big deal, I do not think, but any preliminary thought on pension as a potential headwind for next year? Yeah, I would just say that our pensions are fully funded, and the contribution rates are steady, and we do not really expect much of a change from that. I was just thinking on the expense side with the lower discount rate, but you are saying nothing material. No. Okay. Thank you, guys. Thank you. The next question is from Alex Potter with Piper Jaffray. Morning, Alex. Sorry, this is actually Winnie in for Alex Potter. Okay. The first question is on margins in the Paccar Financial Services segment. I think we saw an improved margin in Q3. Can you maybe talk about how sustainable those margins are on a go-forward basis? How are you measuring margins? We're taking the, one second here. We're taking the gross profit by the revenue. Okay. Gross profit margin. Revenues minus the cost. Part of that is, obviously, we're an A+ rated borrower, so we have able to borrow at very competitive rates, and we are able to support our dealers and our customers, for them at very cost-effective rates to support our business. Part of the reason for that improved margin is the fact that market rates are trending down, so the revenue number and the cost number both are going down, so it sort of creates a higher margin percentage, just because of market rate movements. Okay. Got it. Thank you. Okay. Then just another question on the outlook in Europe. Lastly, WABCO also reported, they expect flattish demand and growth in Europe, but the production forecast was about up 3%-8% for 2015. I was wondering if you can maybe talk about what your 2015 outlook implies in terms of production growth. I think our market estimate for Europe, we are talking about 210,000 to 220,000 this year, next year, 200,000 to 240,000. We would expect DAF to earn its typical share of that market, so that will be indicative of production. I do not think there is any big difference between sort of market registrations and our production for either year. Okay. Thank you very much. Thank you. Question comes from the line of Adam Uhlman with Cleveland Research. Yeah. Hi, guys. Good morning, Adam. Hey, I was wondering if you could talk about what you're seeing in Eastern Europe and Russia. Well, our deliveries in Russia this year will be lower than last year, effect of some of the uncertainty that exists in that region. We continue to sell trucks. We've got a great and growing dealer network in Russia, and so we see it as a great long-term market for us. But certainly impacted this year by what's gone on in the region, and you see that in some of the other areas, the other areas of Eastern Europe. We continue to grow our business there and, again, see that whole region as a great long-term opportunity for DAF. Okay. What proportion of your DAF volume is going to be non-Euro 6 for the year, do you think? It's probably in the 10%-20% range for the year for Euro 5 and other emissions levels. Okay, great. Thank you. Thank you. Question comes from the line of Neil Thanabal with Longbow Research. Hi, good morning, guys, and congrats. Thank you. Regarding used truck pricing in North America, what are you seeing in the market, and do you think we're peaking? Just any other color you can add there on how that will potentially impact the new truck side. Well, the used market has been very good throughout this year, up 5%-10% year-on-year. There's no signs of that being significantly different in the near term. Used truck prices are near all-time highs, and we're benefiting from that in our finance operations. Can you speak to any early signs on the 11-liter MX engine launch in Europe? Wondering if you can just update us on your plans for timing of the launch in North America. The plans for launching in North America are early 2016. The feedback in Europe has been excellent. I was in Europe in September and met with some customers and dealers, and the benefits that engine provides in terms of payload capacity, the weight, the efficiency of the engine in terms of improved fuel efficiency, it's great for a lot of customer applications. As we see downsizing becoming a growing trend in Europe, the MX-11 is being very well received and we'll have the launch here in 2016, and we think that'll be a nice addition to our engine offerings in North America as well. Great. Thank you very much. Thank you. Question comes from the line of Ted Grace with Susquehanna Financial. Hey, guys. I was hoping to follow up on David's question on Europe, and I know the range you gave is call it down mid-singles, up high singles. Could you maybe speak to your key markets in Europe and whether you expect those to outgrow and that might help bridge your build rate versus what you'd jump into next year with versus year to date? The U.K., the Netherlands, Belgium, sort of our home markets, if you will, have got impacted a fair amount by the Euro V pull forward, and Netherlands and U.K. had unique transition rules, so those markets are down quite a bit this year, compared to 2013. The expectation for next year is that those markets will see some growth which will benefit DAF, both in terms of production volumes and share position. We're very strong in the Central European countries, market leader in Central Europe, and I think we'll continue to see reasonable growth in Central Europe as we go forward. I feel, again, the DAF Euro 6 product has been very well received. The MX-11 engine has been very well received, so the product lineup is as broad as it ever has been, and DAF's well-positioned to continue their march towards a 20% market share in the midterm. Okay. So when you overlay your footprint and those dynamics relative to your +2% market growth, you should outgrow the market by a meaningful portion, correct? There's potential there, for sure. Okay. The second thing I wanted to ask was on the U.S. outlook. You've got the midpoint up 2% next year. Could you just maybe talk about how you're thinking about the on-highway market versus the vocational, the relative growth rates, which would be above 2%, which would be below 2% in your forecast? We haven't got that precise with our outlook. I'd say that we expect both markets to continue to grow in the short term. Obviously, the long term, we'll see how things develop. But right now, I think we see, as Bob mentioned earlier, the improving construction market conditions will support vocational growth in the short term, and record freight tonnage obviously supports the long haul and less than truckload business as well as in the short term. But the freight side is facing tougher comps, so just intuitively, it makes sense to think vocational should grow at a faster rate. Would that be a fair assumption? Again, we haven't thought that precisely about the growth expectations. Okay. Thank you very much. Good luck this quarter, guys. Thank you. Question is from Seth Weber with RBC. Hey, good morning, everybody. Good morning. Just a couple quick tie-up questions. Just going back to Brazil, have you heard anything about the government subsidies, what their plan is there, I guess post-election or how that's looking for 2015? Well, obviously with the Rousseff administration continuing, and we expect that those subsidy arrangements will continue. I think there will be some discussions in the coming weeks and months about what exactly those terms and conditions will be. But our expectation is that those will continue in at least a similar form or fashion as to what they have currently. Okay. We expect to hear the details of the new program in December. In December, okay. You don't anticipate any interruption into next year? We don't think so. Right. Okay. Just on the FinCo, given kind of the low interest rate environment, are a larger percentage of customers, relative to history using the FinCo, and how do you handicap what would happen in that business if rates did go higher? Over time, the market share penetration, so the percentage of Paccar trucks that our finance and leasing companies support have been in the 28%-30% range, so I think we would continue to expect to see it in that range. Our team provides really strong customer service. We're dedicated to the transport industry, so the increased level of customer service and technology that we have to support the business is beyond what others can offer. So I think we'll continue to see it in that range. Okay, that's all I had. Thank you very much. Thank you. Final question comes from the line of Jeff Kauffman with Buckingham Research. Thank you very much. Hey, guys. Congratulations. Terrific quarter. Thank you. A lot of my question's been answered at this point, so let me just ask a softer one here. In terms of the ASP and the improvement you're seeing there, how much of that's coming from customers coming to you saying, "Listen, I just want different specs on my truck, and here's how I want it specced," and maybe look at what your heavy-duty buyers are asking for versus medium duty. I know there's a lot of different kinds of markets there, versus you're going out there and saying, "All right, look, the base truck is just X percent more. Well, when you say ASP, I guess you're talking about average selling price, just to make sure we're Right. I understand that that's kind of a residual fallout between revenues you're generating and units you're selling. Well, our discussions with our customers are all based on the value that we provide to them, to meet their needs. Each customer is different, and their expectations and demands may change over time. So it's a very dynamic pricing environment, and we price our product to earn a fair return and provide them a great product that they can have at the lowest lifetime operating costs for their operation. All right. Let me follow up a different way. At the dealership level, with the parts and service business being so strong, how is it the absorption rates at your dealer levels trending right now, and where do you think you're going to be in terms of dealer inventory? The absorption rates are trending up. Our dealers are performing excellently and taking advantage of the high freight levels and providing great service, extending their hours of service, opening new facilities. You see the benefits of that in their business. Their inventories are in great shape, and as I mentioned earlier, in fact, maybe they're a bit too low from where maybe the optimum situation might be. But dealers are doing very well in North America as well as in Europe. Okay. The big questions have been answered, so thank you for the follow-ups, guys. Thank you. There are no other questions in the queue at this time. Are there any additional remarks from the company? I would like to thank everyone for their excellent questions, and thank you, operator. Ladies and gentlemen, this concludes Paccar's earnings call. Thank you for participating. You may now disconnect.